Only more euros can solve Europe's problems. Photograph: Susana Vera/Reuters

The European Union's leaders promised to stop Europe's spiral into economic oblivion. They needed to immediately restore confidence in the solvency of Spain and Italy, urgently take steps to kickstart growth and then credibly commit to changes addressing the institutional weaknesses of the euro area. They failed on all three fronts. Now they are almost out of time.

Given the inability of Europe's leaders to tackle the problems of Greece – a small economy – investors have been losing faith in their ability to support the much larger economies of Spain and Italy, which also face serious economic problems. This has driven up borrowing costs to unsustainable levels.

Unless policymakers can demonstrate how troubled EU economies can meet their borrowing needs at non-penal interest rates, the crisis will continue to deepen.

Worsening doubts about the solvency of sovereigns has also eroded confidence in the creditworthiness of EU banks that hold substantial amounts of sovereign bonds. To make matters worse, endemic weaknesses in the financial system, brushed under the carpet when the narrative prematurely changed to one of "fiscal crisis", have come back to haunt us with a vengeance. The need to provide public support to troubled banks is casting a dark shadow on sovereigns. Weak banks and troubled economies are now locked in a dance of death.

No matter that the European Central Bank is now providing unprecedented support to EU banks; it will not be enough if confidence is not restored in sovereigns first. Here the summit made some progress by pledging additional resources to be channelled through the International Monetary Fund. But these hardly cover the borrowing needs for Spain and Italy for a few months, so remain insufficient to convince investors.

Only the ECB, with its capacity to print euros, can provide the size of support needed, but it continues to play a game of chicken with EU leaders and is refusing to blink.

In the absence of sufficient public support, troubled EU economies continue to face gut-wrenching austerity. Worse, even countries such as Germany, which can borrow cheaply, are also cutting public spending. While austerity may help restore competitiveness for small, open economies – as it did for Sweden in the early 1990s – it will fail when applied to an economic area the size of the EU.

We cannot export our way out of trouble and a collapse of confidence means that consumption and investment spending are both shrinking. Only public spending can help kickstart growth under these circumstances. Yet all the EU leaders spoke about was the need for even more austerity.

The incorrect diagnosis that it was irresponsible government spending that caused the euro crisis has led to self-defeating prescriptions for sharp cuts to public spending. The summit had nothing to say about how growth will be restored, so the EU now faces a deep recession that will only worsen the indebtedness problem.

While Greece and Italy were indeed fiscally irresponsible, countries such as Spain and Ireland were in fact stellar pupils of the EU's stability and growth pact, which imposes limits on deficits and debt. Hence the fiscal compact that the euro area countries signed up to this week fails to address some of the institutional weaknesses that helped trigger the crisis. It commits countries to balanced budgets – but these would have done nothing to prevent the crisis in Spain and Ireland.

To stem the crisis, the ECB needs to step up to the plate and pledge support for troubled economies. This will create the economic space to kickstart growth and the political room for enacting structural reforms. The euro area will then need to embark on wholesale institutional reforms to make sure we don't end up here again.

Sony Kapoor is managing director of the think tank Re-Define and a visiting fellow at the London School of Economics